What is a Tax-Exempt Bond?
Tax-exempt bonds are debt securities issued by a state or local government development agency on behalf of a private business. Once issued, tax-exempt bonds are sold in the open market or purchased by investors or financial institutions. Interest income earned by the bond purchaser is exempt from state and local taxes, which allows the lender to pass savings to the borrower in the form of lower interest rates.
Tax-exempt bonds are similar to conventional loans. Bonds are not grants. Borrowers have to pay back the bond’s principal plus interest to the bond. Applicants have to demonstrate a strong business plan and project proposal, creditworthiness and strong financial statements. In addition, borrowers have to demonstrate how proposed projects will create jobs and positively impact the local economy. Unlike conventional loans, tax-exempt bonds typically offer longer-term financing at considerably lower rates than conventional financing allows.
Tax-exempt bonds are not for modest projects. Typically, bonds are intended to fund projects over a million dollars, but smaller, mini-bonds may be issued. In addition, the costs associated with tax-exempt bonds tend to be much higher than conventional loans because the business has to pay its own legal costs. Carefully consider your financing needs and your ability to pay tens of thousands of dollars in legal fees before jumping into tax-exempt bonds.
What are the Eligibility Requirements?
Tax-exempt bonds are intended to create jobs and improve economic conditions in local areas. Businesses eligible for tax-exempt bonds include manufacturing businesses and non-profit organizations. Tax-exempt bonds of up to $10 million can be issued to finance up to 100% of an eligible project. Exempt facility bonds are issued to finance various types of facilities owned or used by private entities, including airports, docks and certain other transportation-related facilities; water, sewer and certain other local utility facilities; solid and hazardous waste disposal facilities; and certain other types of facilities.
Eligible users of the funds include expanding facilities and purchasing new machinery and equipment. Tax-exempt, IRB funds may not be used to refinance existing debt or for venture and working capital. Other special conditions and terms may vary depending on where your business is located.